Bankruptcy 101 for Lawyers: Automatic Stays

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This blog entry will be the first in a new series of ongoing entries in “Bankruptcy Protector” that will attempt to acquaint new lawyers and non-bankruptcy practitioners with the basic concepts of bankruptcy law that all lawyers should be aware. The purpose of this series is to present these fundamental bankruptcy topics from a 50,000 foot perspective to orient the reader with the concepts in a simple and straightforward manner so that the reader can provide a summary of the problem at n any client or colleague, without necessarily diving head first into the Bankruptcy Code or the mountains of case law by analyzing the intricacies of each concept. The first topic that will be covered in this entry is one of the most critical aspects of bankruptcy law, if not the most critical: the “automatic stay”.

When filing a bankruptcy petition, regardless of the chapter under which the petition is filed, a number of events automatically occur under the Bankruptcy Code. Chief among them are (1) the creation of the “status” of bankruptcy, comprising all assets, tangible and intangible, of the newly filed debtor and (2) the imposition of automatic stay under the Article 362 of the Bankruptcy Code. The automatic stay is a protective shield for the debtor that prevents creditors from taking further action against the debtor or the debtor’s assets and takes effect upon the filing of the bankruptcy petition. This applies to current and future actions. If a debtor is a defendant in a collection action brought by a creditor, the automatic stay freezes that litigation and the creditor can no longer pursue that action, without taking further action in the bankruptcy court. If a creditor garnishes a debtor’s wages, this garnishment must cease upon the imposition of the automatic stay. If a creditor is one day away from seizing a debtor’s property when the petition is filed, that foreclosure must be postponed.

The purpose of the automatic stay is to provide the debtor with a “sort of breathing space” free from the various creditors who might seek payment and to avoid the “race to the courthouse” that so often occurs when a debtor has insolvency issues. By suspending all litigation, collection activities and other actions against the debtor and its assets, the stay attempts to put all creditors on an equal footing and allow the debtor time to deal with the various insolvency-related issues. of the debtor.

Because the automatic stay is immediate and virtually global, it is one of the most powerful debtor protections provided by the Bankruptcy Code. And a creditor who violates the automatic stay can face serious consequences for such a violation, including penalties. Therefore, a creditor who learns that a debtor is bankrupt should immediately consult a bankruptcy attorney to ensure that any action they take regarding that debtor’s account does not violate the stay. For example, if a supplier supplies goods to the debtor, it cannot simply stop supplying those goods because of the debtor’s state of bankruptcy. Such action would constitute an adverse action against the debtor in breach of the stay. When a creditor is already going to have to deal with a number of complications as a result of filing for bankruptcy, the last thing they need is the imposition of penalties as a result of a stay violation.

Automatic stay is not impenetrable, however. Creditors may, in certain circumstances, request a modification or a waiver of the automatic stay. Generally, stay relief is available to secured creditors whose security is both (a) sub-secure and (b) not necessary for the successful reorganization of the debtor. This is not the only criterion for suspension, however, as there is a catch-all “for cause” basis for suspension under the Code. The “cause” can be a number of reasons, including the debtor’s failure to maintain payments after the petition, the debtor filing for bankruptcy in “bad faith”, or the debtor otherwise defeating the intent of the protections afforded by the Bankruptcy Code through filing. That said, suspension relief is never a given, and bankruptcy courts are generally debtor-friendly forums. Any decision to seek relief from the stay should be properly analyzed by a bankruptcy professional.

Simply put, automatic stay puts an immediate freeze on any adverse actions a creditor might take against a debtor. This stay can be severe for some creditors, but it must be respected in order to avoid any negative repercussions. The stay protects the debtor and places all creditors on a presumed equal footing. If a client has a business relationship with a person or company filing for bankruptcy protection, automatic stay is the first thing to discuss, to ensure no action is taken in violation of the suspension.

Copyright ©2022 Nelson Mullins Riley & Scarborough LLPNational Law Review, Volume XII, Number 25

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